FxWirePro: Bullish/Bearish Scenarios, OTC Updates of EUR/JPY and Hedging Strategies Ahead of ECB

Bullish EURJPY Scenarios: 

1) Euroarea economy rebounds to a sustained 1.5%+ growth rate.

2) A US-China peace treaty on trade. 

3) 3) A re-acceleration of CB demand for EUR. 

4) The momentum in JPY selling flows related to outward portfolio investments and FDI strengthens.

Bearish EURJPY Scenarios: 

1) ECB goes all-in with rates cuts, tiering and QE. 

2) Trump proceeds with tariffs on Euro car imports. 

3) A no-deal Brexit.

4) The trade tensions between the US and China intensify and global investors’ risk aversion heightens significantly,

5) Unexpected monetary policy change by the BoJ

6) The US starts vehemently criticizing Japan’s trade surplus with the US.

EURJPY trend has been weaker in both minor and major trends amid some abrupt rallies. The European Central Bank (ECB) is scheduled for their monetary policy on 12th September, Thursday's ECB meeting is the most awaited ECB meeting in more than a year. They showed readiness to cut its key rate in its recent monetary policy. So, there is no reason for the euro to appreciate considerably in the short run.

The stakes are high as inflation expectations are far below target amid lingering economic uncertainty, which means we believe the Governing Council will be forced to act. However, the Governing Council members are divided about the need for further stimuli, although we do not think the hawks will be strong enough to prevent a bold package but the risk of a less aggressive compromise (smaller volume with longer purchase period) exists.

In recent days, risk-on has been the dominant market theme, reflecting better risk sentiment and likely lower QE expectations. Ultimately, the market reaction will depend on the ECB's credibility, willingness and commitment to do 'whatever it takes' and, in our view, sending these signals is more important than the exact design of the measures. We remain skeptic about the inflation/economic impact of 'more of the same'; however, the absence of action in the current environment would be worrying.

OTC outlook: Please be noted that the positively skewed IVs of 3m tenors that are also signifying the hedging interests for the bearish risks. The bids for OTM puts expect that the underlying spot FX likely to show further dips so that OTM instruments would expire in-the-money. 

Most importantly, to substantiate the above indications, we could see some minor positive shifts in existing bearish risk reversal set-up of EURJPY that indicates the long-term hedging sentiments across all tenors are still substantiating bearish risks amid minor abrupt upswings in the short-term. Please be noted that 3m IVs are overall OTC barometer is noteworthy size in the forex options market that can stimulate the underlying forex spot rate.

Options Strategy: Contemplating the above factors, we’ve advocated buying 3m EURJPY (1%) ITM -0.79 delta puts for aggressive bears on hedging grounds as the mild abrupt upswings were contemplated earlier. 

Short hedge: Alternatively, we advocated shorts in futures contracts of mid-month tenors with a view to arresting potential dips. since further price dips are foreseen we would like to uphold the same strategy by rolling over these contracts for September month deliveries. Source: Sentrix, JPM & Saxobank

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